On the record...

Chief Economist Thomas Mayer on the US economy

November 4, 2010 Mr. Mayer, even though the US quickly found its way out of the recession, the upswing has so far been sluggish. Whats your take on US economic growth in the current year and, above all, next year? We have long argued that recoveries from banking crisis are made possible by a forceful restructuring of the banking sector that allows non-banks to slow the pace of de-leveraging. In the near term, the resulting credit impulse lifts private demand fairly forcefully. However, in the longer term, the need to restructure balance sheets reduces the growth potential. Hence, the initial positive impulse does not lead to a self-reinforcing upswing. In the end, the recovery is fairly uneven and sluggish. Reflecting these dynamics, I expect US growth to average 2.8% this year, but then to slow to around 2 % in 2011.

What are the main growth drivers and risks in your forecast? Exports and private investment are likely to be the fastest growing components of total demand in 2010-2011, while private consumption and government spending are likely to lag. Risks to the outlook are tilted to the downside and include a renewed acceleration of de-leveraging by the non-financial sector or lower export growth due to unfavourable economic developments abroad.

The recession originated in the US property market. Whats the outlook there? Will the crisis in the residential market be followed by distortions in the commercial real estate sector? We expect another drop in house prices by about 5% next year, and it will take a few more years before the housing market stabilises. Similarly, commercial real estate is also likely to remain weak for some more time to come. However, unless the economy falls back into recession which I do not expect another significant negative macroeconomic shock from either the housing or the commercial real estate markets seems unlikely.

During the recent meeting of the G20 finance ministers, there was controversy once again between the US and Germany concerning the extent and duration of expansionary fiscal policies. Germany advocates more stringent austerity measures. When will the US begin to bring down its fiscal deficits? Political pressures for fiscal consolidation have increased in the course of this year, and I expect the US general government deficit to decline from almost 11% this year to about 9% in 2011. By European or German standards, the US will probably still have a very large deficit next year. This poses a serious risk to the stability of the US bond market and the US dollar.

Speaking of the US dollar: the tensions between the US and China about the CNY/USD exchange rate are currently in the media. What are your expectations concerning this currency war? Fortunately, it is more a war of words than a conflict with real action. Countries are reacting defensively, rather than aggressively, to the upcoming further easing of US monetary policy. Their reactions include constraints on capital imports in emerging market countries, foreign exchange intervention to slow the pace of currency appreciation and, as a result, an easier monetary policy stance. The main result will be an easier monetary policy on a global scale. This is good for risky asset prices, and equity markets have already responded. In the medium to longer term, however, it will probably lead to higher inflation, first in the emerging markets, and later in the industrial countries. And another thing: when interest rates are kept very low for a very long time, a misallocation
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of capital occurs. Lower future capital productivity growth will weigh on future GDP growth. Hence, any near-term GDP gain will probably come at the expense of GDP losses in the future.

The US labour market has yet to pick up again. Can we expect employment numbers to rise any time soon? Or should we brace ourselves for a prolonged period of jobless growth? Has structural unemployment risen in the US? The recovery in the labour market is likely to remain anaemic as GDP growth will probably be only moderate on average in the years ahead. Since structural unemployment has increased significantly probably to above 8% in my view the US will have to learn to live with a high unemployment rate for quite some time.

Next topic: monetary policy. When do you expect the Fed to scale down its bond market activities and raise key interest rates? With unemployment high but growth and inflation low, the Fed will expand its balance sheet again through quantitative easing for the next couple of quarters. I do not see a rise in official interest rates on the horizon.

Do you see a risk of serious, long-term inflation or exchange-rate problems caused by an excessively long phase of low interest rates? Or do you currently even see a risk of deflation? In my view, the risk of deflation is fairly low. But an aggressively expansionary monetary policy in an environment of low trend growth and a high structural unemployment rate is likely to pave the way for higher inflation in the medium term. And once again, very low interest rates for a long period undermine an efficient allocation of capital.

You indicated that the environment is marked by lower trend growth. Could you explain why you expect the economy to have lower growth potential in future? History suggests that countries affected by a banking crisis suffer a decline in potential GDP growth of a good one percentage point over a longer time period. Hence, the potential growth rate of the US economy is likely to have declined from 3% in the decade before the crisis to at most 2% in the present decade.

Dr. Thomas Mayer is Chief Economist of Deutsche Bank Group and Managing Director of Deutsche Bank Research. Thomas Mayer (+49) 69 910-30800

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